The US tax authorities had increased Whirlpool US’s taxable because income allocated to Whirlpool Luxembourg for selling appliances was considered taxable foreign base company sales income FBCSI/CFC income to the parent company in the U.S. under “the manufacturing branch rule” under US tax code Section 951(a).
The income from sales of appliances had been allocated to Whirlpool Luxembourg through a manufacturing and distribution arrangement under which it was the nominal manufacturer of household appliances made in Mexico, that were then sold to Whirlpool US and to Whirlpool Mexico. According to the arrangement the income allocated to Luxembourg was not taxable in Mexico nor in Luxembourg.
Whirlpool challenged IRS’s assessment and brought the case to the US Tax Court.
“If Whirlpool Luxembourg had conducted its manufacturing operations in Mexico through a separate entity, its sales income would plainly have been FCBSI [foreign base company sales income] under section 954(d)(1),”. The income should therefore be treated as FBCSI under the tax code, writing that “Section 954(d)(2) prevents petitioners from avoiding this result by arranging to conduct those operations through a branch.”
Whirlpool brought this decision to US court of appeal.
Judgement of the Court of Appeal
The Court of Appeal upheld the decision of the tax court and found that under the text of the statute alone, the sales income was FBCSI that must be included in the taxpayer’s subpart F income.
“The question presented is whether Lux’s income from its sales of appliances to Whirlpool-US and Whirlpool-Mexico in 2009 is FBCSI under §954(d)(2). That provision provides in full:
Certain branch income. For purposes of determining foreign base company sales income in situations in which the carrying on of activities by a controlled foreign corporation through a branch or similar establishment outside the country of incorporation of the controlled foreign corporation has substantially the same effect as if such branch or similar establishment were a wholly owned subsidiary corporation deriving such income, under regulations prescribed by the Secretary the income attributable to the carrying on of such branch or similar establishment shall be treated as income derived by a wholly owned subsidiary of the controlled foreign corporation and shall constitute foreign base company sales income of the controlled foreign corporation.
As the Tax Court aptly observed, § 954(d)(2) consists of a single (nearly interminable) sentence that specifies two conditions and then two consequences that follow if those conditions are met.
The first condition is that the CFC was “carrying on” activities “through a branch or similar establishment” outside its country of incorporation.
The second condition is that the branch arrangement had “substantially the same effect as if such branch were a wholly owned subsidiary corporation [of the CFC] deriving such income[.]”
If those conditions are met, then two consequences follow as to “the income attributable to” the branch’s activities: first, that income “shall be treated as income derived by a wholly owned subsidiary of the controlled foreign corporation”; and second, the income attributable to the branch’s activities “shall constitute foreign base company sales income of the controlled foreign corporation.” 26 U.S.C. § 954(d)(2).”
“From these premises, § 954(d)(2) expressly prescribes the consequences that follow: first, that the sales income “attributable to” the “carrying on” of activities through Lux’s Mexican branch “shall be treated as income derived by a wholly owned subsidiary” of Lux; and second, that the income attributable to the branch’s activities “shall constitute foreign base company sales income of” Lux. That second consequence directly answers the question presented in this appeal.
We acknowledge that § 954(d)(2) states that, if the provision’s two conditions are met, then “under regulations prescribed by the Secretary” the provision’s two consequences “shall” follow. And Whirlpool makes various arguments as to those regulations, seeking a result different from the one mandated by the statute itself. But the agency’s regulations can only implement the statute’s commands, not vary from them. (The Tax Court read the “under regulations” text the same way. See Op. at 38 (“The Secretary was authorized to issue regulations implementing these results.”)). And the relevant command here—that Lux’s sales income “shall constitute foreign base company sales income of” Lux—could hardly be clearer.”